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i THE MEDIATING EFFECT OF INNOVATIVE BEHAVIOR AND ENTREPRENEURIAL PASSION ON THE RELATIONSHIP BETWEEN TRANSFORMATIONAL LEADERSHIP AND ORGANIZATIONAL EFFECTIVENESS IN ISLAMIC BANKS HAMED TAHSILDARI A thesis submitted in fulfilment of the requirements for the award of degree of Doctor of Philosophy International Business School Universiti Teknologi Malaysia DECEMBER 2015

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THE MEDIATING EFFECT OF INNOVATIVE BEHAVIOR AND

ENTREPRENEURIAL PASSION ON THE RELATIONSHIP BETWEEN

TRANSFORMATIONAL LEADERSHIP AND ORGANIZATIONAL

EFFECTIVENESS IN ISLAMIC BANKS

HAMED TAHSILDARI

A thesis submitted in fulfilment of the

requirements for the award of degree of

Doctor of Philosophy

International Business School

Universiti Teknologi Malaysia

DECEMBER 2015

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DEDICATION

By the grace of almighty Allah (SWT)

The great soul of my father, to my beloved mother, and my brother (Amin)

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ACKNOWLEDGEMENT

I would like to express my immense gratitude and thanks to Almighty Allah

SWT who bestowed upon me this opportunity to pursue and succeed in the

completion of my PhD study. This achievement could not have been possible

without the support from various individuals. First and foremost, I wish to thank my

pillars of strength, my loving mother and brother who dream and pray the best for

me. Second, I extend my sincere and deepest thanks to my supervisors, Professor

Dato‘ Dr. Mohd Taib Hashim and Dr. Wan Normeza Wan Zakaria for their valuable

guidance, support and encouragement. I have profound appreciation for the

considerable time and efforts invested by them on reviewing and commenting on the

drafts of this thesis. Finally, I would like to appreciate my brother Amin Tahsildari

who has been always listening to me and supporting me in my whole life.

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ABSTRACT

In recent years, there has been growing body of knowledge on the aspect of

Islamic banking effectiveness worldwide. Nevertheless, there are a limited number

of studies on the efficiency and effectiveness of Islamic banking in Malaysia.

Accordingly, this study attempts to fill the gap in the current analysis on the

effectiveness of Islamic banking in Malaysia. If Islamic banks measure their

effectiveness based on their customers‘ perception, they can achieve superior results.

Transformational leadership motivates staffs who work with customers which can

lead to the improvement of organizational effectiveness. In this regard, this thesis

develops a model in order to investigate the impact of transformational leadership

on organizational effectiveness of Islamic banking through the mediating effects of

innovative behaviour and entrepreneurial passion. A quantitative research approach

was used to conduct this study in which 418 customers of Malaysian Islamic banks

were surveyed through purposive sampling procedure. Structural Equation

Modelling was used to analyse the data. The structural model demonstrated

satisfactory reliability and validity measures. The measurement model also showed

satisfactory convergent and discriminant validity. Furthermore, all paths in the

research model were found to be significant. Particularly, the results revealed that

transformational leadership strongly affects the organizational effectiveness. This

study contributes to theoretical and practical knowledge by providing the evidence

on the relationship between transformational leadership and organizational

effectiveness. In general, findings of the study respond to the needs of the

transformational leadership to consider innovative behaviour of employees and to

bring about entrepreneurial passion which subsequently can result in increased

effectiveness of Malaysian Islamic banks. This study is based on cross-sectional

research design and future research is recommended to undertake longitudinal

analysis in order to explore changes over time as changes unfold.

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ABSTRAK

Akhir-akhir ini, terdapat perkembangan pengetahuan di dalam aspek keberkesanan

perbankan Islam di seluruh dunia. Walaubagaimanapun, kajian mengenai kecekapan dan

keberkesanan perbankan Islam di Malaysia adalah terhad. Sehubungan itu, kajian ini

mencuba untuk mengisi lompang di dalam analisis semasa ke atas keberkesanan perbankan

Islam di Malaysia. Sekiranya bank-bank Islam mengukur keberkesanan mereka berdasarkan

persepsi pelanggan,mereka mampu mencapai keputusan yang lebih baik. Kepemimpinan

transformasi mampu memotivasikan staf yang berkerja dengan pelanggan yang boleh

membawa kepada peningkatan keberkesanan sebuah organisasi. Dalam hal ini, tesis ini

membangunkan satu model yang menyiasat impak kepemimpinan transformasional ke atas

keberkesanan bank-bank Islam melalui kesan pengantaraan (mediating effects) sikap inovatif

dan semangat keusahawanan. Pendekatan penyelidikan kuantitatif telah digunakan bagi

menjalankan penyelidikan ini dimana seramai 418 orang pelanggan bank-bank Islam di

Malaysia telah dikajiselidik melalui persampelan purposif. Permodelan Persamaan Struktur

telah digunakan untuk menganalisis data kajian ini. Model berstruktur ini menunjukkan

pengukuran kebolehpercayaan dan kesahan yang memuaskan, Model yang diukur juga

menunjukkan kesahan memusat dan kesahan diskriminan yang juga memuaskan. Di samping

itu juga, keputusan kajian ini menunjukkan semua laluan (paths) dalam model penyelidikan

juga didapati signifikan. Keputusan ini menunjukkan yang kepimpinan transformasi

memberi kesan yang besar ke atas keberkesanan organisai. Kajian ini menyumbang kepada

pengetahuan teoretikal dan praktikal dengan memberi bukti kepada perhubungan di antara

kepemimpinan tranformasi dan keberkesanan organisasi. Secara umumnya, dapatan kajian

ini memberi respons kepada keperluan kepemimpinan transformasi dengan mengambilkira

sikap innovatif pekerja dan mengenengahkan semangat keusahawanan yang seterusnya

boleh menghasilkan peningkatan kepada keberkesanan bank Islam diMalaysia. Kajian ini

adalah berdasarkan rekabentuk penyelidikan rentas (cross-sectional) dan penyelidikan yang

menggunakan analisis membujur (longitudinal) adalah disyorkan di masa hadapan untuk

meneroka perubahan-perubahan dari masa ke semasa menurut perubahan-perubahan yang

berlaku.

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TABLE OF CONTENTS

CHAPTER TITLE PAGE

DECLARATION ii

DEDICATION iii

ACKNOWLEDGEMENT iv

ABSTRACT v

ABSTRAK vi

TABLE OF CONTENTS vii

LIST OF TABLES xii

LIST OF FIGURES xiv

LIST OF ABBREVIATIONS xv

LIST OF APPENDICES xvi

1 INTRODUCTION 1

1.1 Introduction 1

1.2 Background of the Study 2

1.3 Scope of the Study 4

1.4 Research Gap 5

1.5 Problem Statement 6

1.6 Research Objectives 8

1.7 Research Questions 9

1.8 Contribution of the Study 9

1.8.1 Theoretical Contribution 10

1.8.2 Practical Contribution 11

1.9 Operational Definitions 11

1.10 Research Methodology 12

1.11 Limitation of the Study 12

1.12 Chapter Summary 13

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2 LITERATURE REVIEW 15

2.1 Introduction 15

2.2 Islamic Banking Concept 15

2.2.1 Development of Islamic Banking 20

2.2.2 Islamic Banking Principles 23

2.2.3 Development of Islamic Banking in Malaysia 29

2.2.4 The Distinction between Islamic and Conventional

Banking 32

2.3 Research in Islamic Banking in Malaysia 37

2.4 Organizational Effectiveness 42

2.4.1 Goal Approach 43

2.4.2 Systems Approach 44

2.4.3 Process Approach 45

2.4.4 Multiple-Constituency Approach 46

2.5 Early Theories of Leadership 52

2.5.1 Transactional versus Transformational Leadership 54

2.5.1.1 Transactional Leadership 54

2.5.1.2 Transformational Leadership 55

2.5.1.3 Transactional/Transformational Leadership

Paradigm 59

2.6 Theoretical Background of Transformational Leadership 66

2.6.1 Transformational Leadership 68

2.7 Innovative Behaviour 74

2.7.1 Multi-Stage Process of Innovative Behaviour 75

2.8 Entrepreneurial Passion 79

2.8.1 Theoretical Background of Entrepreneurial Passion 80

2.8.2 Sub Dimensions of Entrepreneurial Passion 81

2.9 The Relationship between Employees and Customers 85

2.10 The Relationship between Transformational Leadership and

Customers 87

2.11 Conceptual Framework Umbrella Theories 92

2.12 Development of Hypotheses 94

2.12.1 Transformational Leadership and Organizational

Effectiveness 94

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2.12.2 Transformational Leadership and Employees‘

Innovative Behaviour 97

2.12.3 Employees‘ Innovative Behaviour and

Organizational Effectiveness 99

2.12.4 Transformational Leadership and Employees‘

Entrepreneurial Passion 101

2.12.5 Employees‘ Entrepreneurial Passion and

Organizational Effectiveness 103

2.13 Conceptual Framework 106

2.14 Chapter Summary 108

3 RESEARCH METHODOLOGY 109

3.1 Introduction 109

3.2 Research Design 109

3.3 Sampling Size and Technique 110

3.4 Population and Respondents 112

3.5 Data Collection 114

3.6 Instrument Development 116

3.7 Reliability and Validity 119

3.7.1 Reliability 119

3.7.2 Validity 122

3.7.2.1 Content Validity 122

3.7.3 Construct Validity 123

3.8 Data Collection Process 124

3.8.1 Pilot Test 124

3.8.2 Findings from Pilot Study 125

3.8.3 Enhancing the Survey Instrument 125

3.8.4 Face Validity Testing 126

3.8.5 Reliability Testing 126

3.9 Data Analysis: Introduction to Structural Equation Modelling

(SEM) 127

3.9.1 CB-SEM and PLS-SEM 128

3.9.2 Partial Least Square (PLS) 130

3.9.3 Reflective and Formative Constructs 130

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3.10 Chapter Summary 132

4 DATA ANALYSIS 133

4.1 Introduction 133

4.2 Data Collection Process 133

4.3 Respondent Demographics 134

4.3.1 Descriptive Statistics 136

4.4 Preliminary Data Analysis 137

4.4.1 Missing Data Analysis 137

4.4.2 Outlier 138

4.4.3 Normality Test 138

4.4.4 Multi Collinearity Test 139

4.4.5 Common Method Variance 140

4.4.6 Non-Response Bias 142

4.5 PLS Based Structural Equation Modelling (SEM) Approach 142

4.5.1 Method of Measurement and Structural Model

Analysis 143

4.5.1.1 Composite Reliability 143

4.5.1.2 Item/Indicator Reliability 144

4.5.1.3 Average Variance Extracted 146

4.5.1.4 Discriminant Validity 147

4.5.2 Assessing Structural Model (Inner Model) 151

4.5.2.1 Assessing Collinearity among the Predictor

Construct 151

4.5.2.2 Evaluating Significance and Relevance of the

Structural Model 152

4.5.2.3 Coefficient of Determination (R2) 153

4.5.2.4 Predictive Relevance (Q2) 154

4.5.2.5 Effect Size (f2) 155

4.6 Hypotheses Testing 156

4.7 Analysis Mediation 159

4.8 Summary 164

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5 DISCUSSION AND CONCLUSION 165

5.1 Introduction 165

5.2 Overview of the study 165

5.3 Research Objectives and Findings 168

5.3.1 The Relationship between Transformational

Leadership and Organizational Effectiveness 169

5.3.2 The Relationship between Transformational

Leadership and Employees‘ Innovative Behaviour 170

5.3.3 The Relationship between Transformational

Leadership and Entrepreneurial Passion 172

5.3.4 The Relationship between Employees‘ Innovative

Behaviour and Organizational Effectiveness 174

5.3.5 The Relationship between Entrepreneurial Passion

and Organizational Effectiveness 175

5.3.6 Mediating Effect of Employees‘ Innovative

Behaviour and Entrepreneurial Passion on the

Relationship between Transformational Leadership

and Organizational Effectiveness 176

5.4 Theoretical Contribution 177

5.5 Practical Contribution 181

5.6 Future Research Recommendation 183

5.7 Concluding Remarks 184

REFERENCES 188

Appendices A-F 230-251

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LIST OF TABLES

TABLE NO. TITLE PAGE

2.1 Islamic banking definition 16

2.2 A summary of Islamic banking concept 17

2.3 A summary of the development of Islamic banking 21

2.4 Shariah Concepts in Islamic Banking 24

2.5 A summary of Islamic banking principles 26

2.6 A summary of development of Islamic banking in Malaysia 30

2.7 Distinctions Between Islamic Banking And Conventional

Banking 32

2.8 A summary from researcher of distinction between Islamic

banking and conventional banks 35

2.9 A summary of research in Islamic banking in Malaysia 39

2.10 A summary of organizational effectiveness 48

2.11 A summary of leadership 60

2.12 A summary of transformational leadership 70

2.13 A summary of innovative behavior 76

2.14 A summary of entrepreneurial passion 83

2.15 A summary of the relationship among leaders, employees,

customers, and organizational effectiveness 89

3.1 Sample Size Recommendation a in PLS-SEM for a

Statistical Power of 80°/o 111

3.2 A Summary of the Population, Samples and Respondents 113

3.3 Respondents Criteria 114

3.4 Proposed Questionnaire 116

3.5 Ranges and meanings of Cronbach's alpha 121

3.6 Result of the Reliability 127

4.1 Respondents Demographic Explanation 135

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4.2 Descriptive Statistics 136

4.3 Normality Test 139

4.4 VIF Values 140

4.5 Total Variance Explained 141

4.6 PLS-SEM Process 142

4.7 Composite Reliability 144

4.8 Item/Indicator Reliability 145

4.9 Average Variance Extracted 147

4.10 Cross Loading 148

4.11 Fornell-Larcker 149

4.12 VIF 152

4.13 Path Coefficients, Observed T- Statistics, Significant Level

for All Hypothesised Paths 152

4.14 R2 153

4.15 Q2Values 154

4.16 EffectSizes (f2) 155

4.17 Path Coefficients, Observed T- Statistics, Significant Level

for All Hypothesised Paths 156

4.18 Summary of Hypothesis Testing based on Research

Questions 156

5.1 Hypotheses Summaries 167

5.2 A Summary of Hypothesis Testing 168

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LIST OF FIGURES

FIGURE NO. TITLE PAGE

2.1 Conceptual Framework - (Kang, 2013) 104

2.2 Conceptual Framework - Adapted From (Kang, 2013) 106

3.1 The Diagrams of Reflective and Formative Constructs 132

4.1 After Deleting Low Loading Factors 150

4.2 Bootstrapping Analysis 158

4.3 TL to OE 159

4.4 Mediating Effect of Innovative Behaviour 160

4.5 Mediating Effect of Entrepreneurial Passion 161

4.6 Post-Hoc Analysis 162

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LIST OF ABBREVIATIONS

AOIFI - Auditing Organization for Islamic Financial Institutions

BIMB - Bank Islam Malaysia Berhad

BNM - Bank Negara Malaysia

CIMB - Commerce International Merchant Bankers

EP - Entrepreneurial Passion

HSBC - Hongkong and Shanghai Banking Corporation

IB - Innovative Behaviour

IAS - International Accounting Standards

IAIB - International Association of Islamic Banks

IIRA - International Islamic Rating Agency

IDB - Islamic Development Bank

KFH - Kuwait Finance House

OCB - Organizational Citizenship Behaviour

PLS - Partial Least Square

OE - Organizational Effectiveness

OIC - Organization of Islamic Conference

RBV - Resource Based View

RHS - Rashid Hussain Bank

SEM - Structural Equation Modelling

SPSS - Statistical Package for Social Sciences

TL - Transformational Leadership

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LIST OF APPENDICES

APPENDIX TITLE PAGE

A Respondents Demographic Profile 230

B Before Deliting Low Loading Factors 231

C Questionnaire 232

D Missing Data before Replacement 238

E Analysis 240

F Result of Q-Q Plot 250

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CHAPTER 1

INTRODUCTION

1.1 Introduction

Today, through the great competitiveness environment, organizations are

expected to be more effective for the purpose of securing their financial

circumstances and their positions in the market. Many organizations struggle to meet

the challenges of optimizing effectiveness. Organizations that successfully manage

their effectiveness measures achieve superior results. Effectiveness reveals itself as

crucial to organization development and to the fulfilment and viability of modern

society. In this regard, organizations have to care that the degree to which a product

or service meets customer requirements and expectations. Undeniably, the

effectiveness of organizations has to be based on customer requirements.

According to Muijs (2011), leadership has a vital indirect impact on

efficiency. Transformational leaders have significant effects on employees which can

lead to increasing the effectiveness of organizations. Transformational leadership has

been described to influence on employees that accept responsibility for their

movements, achieve rewards through self-reinforcement, and are capable of leading

themselves (Kuhnert and Lewis, 1987; Bass and Avolio 1990b). A transactional

leader assists workers to experience out of their particular self-interests and has the

capacity to move them to work for the benefit of the association. In fact,

transformational leaders could persuade followers to create more remarkable

innovativeness in their working environment.

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Unfortunately, numerous organizations that made efforts to bring about

innovation found their attempts largely unsuccessful. Among the companies which

were considered as the Fortune 500 in 1955, only 71 still have been able to remain on

the list today (Collins, 2008). However, regardless of these disappointing results,

companies do not have any choice but to pursue innovation in order to survive the

economic downturn and attaining the quick speed of production life cycles.

Islamic vision about the socio-economic considerations emphasizes on

abolishment of any interest. Individuals can lend and borrow money and invest on a

risk sharing project through Islamic banking system. The Islamic banking system

ensures the optimal rate and its effective usage which leads to a sustainable economic

development.

Reviewing South Asia, Pakistan has recently revived its Islamic banking

approach under the duel banking system. Bangladesh is considered as a follower for

more solid Islamic banking policies under the increasing market and public demands.

Islamic banking operations are being adopted in India and Afghanistan. Malaysia as

a Southeast Asian country is considered for promoting the extensive and developed

version of Islamic banking. In addition, Sudan as a country in Africa that has also

adopted more pragmatic approaches to develop its Islamic banking. Islamic banking

has been able to gain momentum in the United States of America and European

countries as well. These countries are now challenging for more changes to their

banking system so as to apply the Islamic banking approaches in their markets in

order to increase their effectiveness.

1.2 Background of the Study

The purpose of this study is to concentrate on enhancing organizational

effectiveness through transformational leadership. According to Bass and Avolio

(1990a) a transformational leader is expected to "raise the objectives of subordinates

for accomplishment and personal development, while likewise improving the

organization. Beekun and Badawi (2006) describe leadership from an Islamic

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perspective as having two primary roles: the servant-guardian leader; and the

charismatic, strong role model leader. Servant leaders serve their followers, seek

their welfare, and guide them toward what is good. Concurrently, the focus of a

transformative guardian leader is on the achievement of organizational objectives as

followers‘ outcomes (Aabed, 2006; Beekun and Badawi, 2006; Kuhn, 2007;

Ramadan, 2007).

Until the late 1990s, most of the research on transformational leadership had

been conducted in the United States (Bass, 1999). More recently, research has started

to examine leadership across national borders and among various cultures. However,

many researches have been done in the field of transformational leadership; there is a

need for more attention to the subordinates of transformational leadership and to the

transformational leaders‖ (Bass and Riggio, 2006).

In numerous organizational behaviour studies, various factors have been

found to affect innovation at different levels (Eisenbeiss et al., 2008; Jung et al.,

2003; Scott and Bruce, 1994). However, even though extensive scholarly papers

have been published on the subject of innovation, the field still remains theoretically

and empirically fragmented. Specially, organizational behaviour researchers have

encountered inevitable challenges or criticisms while studying innovation. This is

because there are various endogenous variables (i.e., within an organization) and

exogenous variables (i.e., outside of an organization) influencing the innovation.

Since organizational behaviour researchers exclusively focus on psychological and

behavioural aspects within organizations, they tend to ignore the external factors

(i.e., exogenous variables), such as an organization‘s position in a network of other

companies (Westphal et al., 1997), information asymmetries (Jensen and Meckling,

1976), and societal impacts (Thornton and Ocasio, 2008). As a result, it is almost

impossible for organizational behaviour researchers to confirm the antecedents of

innovation, which involve complicated factors within and outside an organization.

Given this limitation in the organizational behaviour discipline, it might be relevant

to investigate psychological and/or behavioural factors that potentially affect

innovation.

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As the main structure of innovation is concluded in new ideas and

accordingly the individuals developing and implementing them (Van de Ven, 1986),

the study of what motivates individual innovative behaviour is important (Scott and

Bruce, 1994). In addition, Lee (2007) argued that individual innovative behaviours in

the workplace bring about an important impact on organizational innovation and

effectiveness. In this study, therefore, employees‘ innovative behaviour is viewed as

a critical proxy variable that potentially influences organizational effectiveness.

1.3 Scope of the Study

This research focused on the effectiveness of Malaysian Islamic banking

industry which includes Malaysian Islamic banks. Partial least square (PLS-SEM) is

used in order to analyze the data; in this regard, the maximum number of arrows

which are pointed to organizational effectiveness in the conceptual framework of the

study is three. Therefore, the minimum required sample size was 124. Accordingly,

Kuala Lumpur was chosen to distribute the questionnaire among the costumers of

Malaysian Islamic banks; however, the respondents could also be from other states.

Kuala Lumpur is the national capital and most populous city in Malaysia. The

city covers an area of 243 km2 and has an estimated population of 1.6 million. It is

among the fastest growing metropolitan regions in South-East Asia, in terms of

population and economy. The first Islamic bank in Malaysia, Bank Islam Malaysia

Berhad (BIMB) was founded and commenced operation in Kuala Lumpur in 1983.

Kuala Lumpur is one of the most appropriate places in Malaysia in terms of having

customers for Islamic banks operation. Currently, besides BIMB there are other

Malaysian Islamic banks such as Maybank Islamic, CIMB Islamic, and RHB

Islamic.

The sampling method which was utilized in this research is purposive

sampling in which a complete range of customers of Malaysian Islamic banks were

surveyed. Purposive sampling is randomly selecting units from the segment of the

population with the most information on the characteristic of interest (Guarte and

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Barrious, 2006). Through the purposive sampling technique, the researchers take the

samples that fulfill their specific purpose (Zikmund et al., 2010).

1.4 Research Gap

The constructs of transformational leadership, organizational effectiveness,

employee innovative behaviour, and entrepreneurial passion have been studied by

quite a number of organizational researchers in contemporary literature. These

constructs have been studied in seperately in relation with other variables and

constructs, and in other environments and different contexts. Yet, the

interrelationships between these constructs, highlighting the impact of

transformational leadership on organizational effectiveness via the mediator effects

of employee innovative behaviour and entrepreneurial passion have not been much

explored in extant literature.

This study focuses on enhancing the effectiveness of Islamic banks in

Malaysia; in this regard, in relation to increasing organizational effectiveness, this

study presents employees innovative behaviour with four elements as to realize

problems, create ideas, provide support for the ideas, and implement the ideas.

Additionally, this study introduces entrepreneurial passion as an important factor for

employees which need to be improved by managers for the purpose of enhancing

organizational effectiveness. The government of Malaysia subscribes to the idea that

efficient banking system is the key to stimulate savings, investments and economic

growth. In Malaysia, Islamic banking system is reviewed as developed and

innovative and also following standardization and the true success of the Malaysian

Islamic banking system comes from serving individuals at the grassroots (Khan and

Bhatti, 2008).

The orderly enhancement of the banking system is very necessary for the

sustainable economic growth (Schoon, 2008). The banking approach system has

significantly grown in proportion and contribution towards the world financial

system and has several financial instruments which are relatively direct alternatives

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to the conventional financial instruments (Ali, 2008). Islamic banking is considered

as a fast developing division of the financial market which is available in both the

Muslim and also non-Muslim (Van Greuning and Iqbal, 2008).

Finally, the research gap of this study is also in relation with the Tenth

Malaysia Plan (2011- 2015). In the light of the fact of the Tenth Malaysia Plan, there

is an emphasis on both human capital development and improvements in innovation

capacity (Economic Planning, 2010). Accordingly, this study attempts to improve the

innovation capacity of human capital behaviour involving in Islamic banks by

transformational leadership which eventually enhances the effectiveness of

Malaysian Islamic banks.

1.5 Problem Statement

The Islamic banking industry in Malaysia has come a long way over the last

few decades to become what it is today. For example, the early history of Islamic

banking within Malaysia began with the establishment of the Pilgrims Management

and Fund Board (PMFB) which represents the pioneer interest-free financial

institution in the country (Ariff, 1989). The PMFB was set up in August 1969 with

the main role of collecting and mobilizing saving from those who intend to go for the

hajj (pilgrim) in Mecca. This request was well received by the government by

establishing a steering committee to study its possibility in 1982. Consequently, the

new Islamic Banking Act (IBA) was enacted in 1983. Subsequently, the first Islamic

bank in Malaysia, as Bank Islam Malaysia Berhad (BIMB) was founded and

commenced operation on July 1, 1983. The initial capital of BIMB was contributed

by the Malaysian government, PFMB, and various religious councils and agencies

(Ariff, 1989). They offer interest free banking system and ten years later in 1993 the

dual banking scheme was established (Marimuthu et al., 2010). In 2001, Sukuk and

capital market were founded in Malaysia and so far it has attained a notable

development. Malaysia is known as the first global Sukuk centre (Khan and Bhatti,

2008b).

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In Malaysia, banking industry plays a very important role in the economy of

the country. For example, the importance of capital regarding economic sectors

activity is still supported through banking industry in Malaysia as a developing

country. Additionally regarding the importance of banking industry in Malaysia, the

credit from banking sectors from 2002 to 2010 contributed in average of 90 % to

economic activity (Fidlizan et al, 2014). Therefore, banks and policy makers need to

investigate the efficiency of the banking industry in order to enhance the economic

growth of country.

Even though, Malaysia is considered as one of the most successful countries

in Islamic banking, Malaysia continues to undertake necessary changes in line with

global changes especially through the provision of capital economic development of

the country. Research on Islamic banking efficiencies have begun to grow all around

the world recently (Darrat et al., 2002; Yudistira, 2003; Hassan, 2006; Mohamad et

al., 2008; Moin, 2008; Shahid et al., 2010; Ismail et al, 2013). However, there have

been just a limited number of studies on the efficiency and effectiveness of Islamic

banks in Malaysia (Sufian, 2006a, b; Mohd Zamil, 2007; Ahmad Mokhtar et al.,

2007; Kamaruddin et al., 2008; Mohamad Noor and Ahmad, 2011; Ismail et al,

2013). In this regard, this study attempts to fill the gap in the current analysis about

the effectiveness of Islamic banking in Malaysia.

There has to be greater efforts and considerations to deal with the leadership

within banking industry. For instance, banking industry is highly regulated by the

Government and the Central Bank of Malaysia (Wasiuzzaman and Gunasegavan,

2013). There has been a statement coming from Governor of Bank Negara Malaysia

(BNM) indicating that the failure of banking system supervision had contributed to

myriad of economic problem today (Fidlizan et al, 2014). Regulations and strict

controlling of banking operation and higher supervisory power of the authorities are

some of the measures that should be seriously undertaken by authorities‘ concern.

The negative effect is seen in the case of risk-taking behaviour of Islamic banks,

through higher restrictions resulting in a reduction in risk taking of Islamic banks

(Alam, 2013).

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Furthermore, one of the most important issues within the literature about the

challenges faced by Islamic banking is about the leadership framework (Nasser and

Muhammed, 2013). A large number of leadership studies are highly connected to

organizational studies. Accordingly, this study examines how transformational

leadership is related to organizational effectiveness so that it can be managed in order

to positively influence Malaysian Islamic banks.

1.6 Research Objectives

The primary purpose of this study is to evaluate the impact of

transformational leadership on organizational effectiveness through some important

organizational factors. Therefore, the objectives of this study are as follow:

1) To determine the contribution of transformational leadership on

organizational effectiveness in Malaysian Islamic banks.

2) To explore the contribution of transformational leadership on

employees‘ innovative behavior in Malaysian Islamic banks.

3) To evaluate the impact of transformational leadership on employees‘

entrepreneurial passion in Malaysian Islamic banks.

4) To study the influence of employees‘ innovative behaviour on

organizational effectiveness in Malaysian Islamic banks.

5) To explore the impact of employees‘ entrepreneurial passion on

organizational effectiveness in Malaysian Islamic banks.

6) To determine the mediating impact of innovative behavior and

entrepreneurial passion on the relationship between transformational leadership and

organizational effectiveness in Malaysian Islamic banks.

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1.7 Research Questions

This research specifically focuses on the relationship between

transformational leadership, organizational effectiveness, entrepreneurial passion,

and innovative behavior with respect to the Malaysian Islamic banks. Therefore, the

research questions of this study are as follows:

1) Does transformational leadership have a positive contribution on

organizational effectiveness in Malaysian Islamic banks?

2) Does transformational leadership positively contribute to employees‘

innovative behavior in Malaysian Islamic banks?

3) Does transformational leadership have a positive impact on

employees‘ entrepreneurial passion in Malaysian Islamic banks?

4) Does employees‘ innovative behaviour positively influence on

organizational effectiveness in Malaysian Islamic banks?

5) Does employees‘ entrepreneurial passion have animpact on

organizational effectiveness in Malaysian Islamic banks?

6) Do employees‘ innovative behaviour and entrepreneurial passion

mediate the relationship between transformational leadership and organizational

effectiveness in Malaysian Islamic banks?

1.8 Contribution of the Study

Kang (2013) focused on the role of transformational leadership influencing

the innovative behaviour through two mediating variables namely entrepreneurial

climate and entrepreneurial passion. He attempted to identify the intervening

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mechanisms between transformational leadership and innovative behaviour in an

entrepreneurial context. In his findings, transformational leadership had direct impact

on innovative behaviour and transformational leadership was shown to affect both

firm climate and followers‘ passion. However, Kang failed to find the mediating

effect of entrepreneurial climate, but only found the upward influence of

transformational leadership towards entrepreneurial climate. Finally, entrepreneurial

passion partially mediated the relationship between transformational leadership and

innovative behaviour.

The current study is an extension of Kang‘s study investigating the influence

of employees‘ innovative behaviour on organizational effectiveness. The three

factors within the investigation of organizational effectiveness are the goal approach,

the systems resource approach, and the process approach. A newer approach has also

emerged called the multiple constituency approach, which is a mixture of the initial

three. In this study, it was investigated if transformational leadership influences on

organizational effectiveness. In this regard, there would be two types of contributions

namely theoretical and practical.

1.8.1 Theoretical Contribution

The current study will contribute to literature in different dimensions. For

instance this study will bring about more literature between the relationships of

following variables namely transformational leadership and organizational

effectiveness, the relationship between transformational leadership and

entrepreneurial passion, the relationship between entrepreneurial passion and

organizational effectiveness, and the relationship between innovative behaviour and

organizational effectiveness.

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1.8.2 Practical Contribution

The outcome of this study will possess significant practical implications to

Islamic banks to increase their efficiency in terms of goal approach, system approach

and process approach. In this regard, it is expected that the results of this study will

contribute to Islamic banks in the capability to attain their desired objectives and

ability to acquire scarce resources. In fact, Islamic banks would be considered

effective for customers if the processes are smooth, efficient, and goal directed.

Furthermore, the results of this study will provide Islamic banking managers

effective insight in order to realize the impact of innovative behavior among

employees on the effectiveness of the banks for customers. Actually, innovative

behavior helps employees to recognize the problems through the operations, generate

ideas for the problems, build support for in relation to their ideas, and implement

their ideas accordingly.

1.9 Operational Definitions

Islamic bank- A financial institution that deals with the purpose to implement

the economic and financial principles of Islam through a banking system (Haque,

2010b).

Transformational Leadership- According to Burns (1978), transformational

leadership is about to a process that leaders and subordinates are cooperating with

each other for higher levels of morale and motivation. This form of leadership, as

suggested by Burns (1978), inspires followers to transform their self-interest toward

the greater interests of the organization (Bass, 1985; Elenkov and Manev, 2009;

Howell & Higgins, 1990).

Organizational Effectiveness- Considering the internal process of an

organization in terms of being smoothly and efficiently, and goal directed

(Chelladurai and Haggerty, 1991).

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Innovative Behaviour – Amulti-stage process of individuals in terms of

recognizing the issues, making suggestions, bringing support for suggestions, and

implementing the suggestions (Janssen, 2000; Kanter, 1988; Pieterse et al., 2010;

Scott & Bruce, 1994).

Entrepreneurial Passion- ―A great interest for an activity which becomes

important for individuals in which they invest time and energy for it‖ (Vallerand et

al., 2003).

1.10 Research Methodology

This study evaluated the relationship between transformational leadership and

organizational effectiveness through innovative behaviour and entrepreneurial

passion in Malaysian Islamic banks. This research created a theoretical model to test

the hypotheses of the research. A quantitative research was completed in this study in

order to test the theories and attain the objectives of the research. Therefore, this

study adopted a quantitative method.

A pilot test was conducted to examine the questionnaire‘s length, format,

clarity, scale reliability and content validity. Collected data from pilot test was

analysed and questionnaire‘s was revised. Eventually, standardized questionnaire

was used as a study instrument to collect the data for the current study. Purposive

sampling technique was used to collect the data among the respondents of the study.

Structural equation modelling (smart PLS) was applied to analyse data. Furthermore,

all paths in the research model were tested to determine if they are significant.

1.11 Limitation of the Study

There are three limitations faced by the study; firstly, this study is based on

cross-sectional research design. Cross-sectional studies are simple in design and are

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aimed at determining the prevalence of a phenomenon, problem, attitude or issue by

taking a snap-shot or cross-section of the population. These studies usually involve

one contact with the study population and are relatively inexpensive to undertake.

Secondly, the respondents of this study were selected based on purposive

sampling technique. It was not possible for this study to reach respondents through

other sampling techniques. Thirdly, this research focused on the Malaysian Islamic

banks in Kuala Lumpur state only. Along with the purpose of this study, a survey

was distributed among the customers of Malaysian Islamic banks in the area that are

operating in the Federal Territory of Kuala Lumpur only. Unfortunately, coverage of

Islamic banks outside Kuala Lumpur would be more robust due to time constraints

and other constraints faced by researcher. Nevertheless, the selection of Kuala

Lumpur area could fulfil the research requirement.

1.12 Chapter Summary

This study aims at investigating the appropriate relationship among

transformational leadership as the independent variable, employees‘ innovative

behavior and entrepreneurial passion as the mediator variables, and organizational

effectiveness as the dependent variable. This study consists of five chapters; in this

regard, chapter one comes up with the primary research elements such as problem

statement, research objectives, and questions. Chapter two provides the literature

about Islamic banking, its background and principles, what makes it distinct from

conventional banking system, and Islamic banking system in Malaysia. However,

chapter two brings as well. Chapter three highlights the need for quantitative analysis

to cover the questions of the research, the population for research, sampling

technique, and presents the principles and procedures of structural equation

modelling (SEM) by Smart PLS 3 to evaluate the collected data. Chapter four

discusses the data collection process, demographics and data analysis, testing the

hypotheses, and eventually shows the results. Finally, chapter five brings about the

findings from testing the hypotheses, the contribution of the research in theoretical

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and practical terms, future research, and some concluding remarks.

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